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15 Cards in this Set
- Front
- Back
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Inflation |
A sustained rise in the price level across the economy over a given period of time |
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Hyperinflation |
Periods of extremely high inflation |
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Deflation |
A sustained fall in the price level across the economy over a given period of time. |
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Why is low and stable inflation an important macroeconomic objective? (3) |
Causes uncertainty and puts off investment Makes domestic producers/firms less competitive than firms from countries with low inflation. Affects those who are on fixed incomes such as benefits or pensions. |
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Why isn't the inflation target zero? |
Inflation can be an indicator that the economy is growing. It allows firms to have real wage flexibility and control wages in the economy. |
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Why is deflation sometimes perceived as bad for the economy? |
If consumers expect prices to continue to fall, they will delay purchasing goods, expecting to buy at a lower price in the future. Aggregate demand would therefore fall. Producers would respond to this by laying off workers which would result in demand-deficient unemployment |
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Disinflation |
A decrease in the rate of inflation |
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How is UK inflation measured? |
Using CPI (consumer price index). It was changed by the Labour government to make it easier to compare with other European countries who use the same measure. They refer to it as the Harmonised index of consumer prices (HIPC). |
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Calculating the Inflation rate Calculating the weighted price index |
The greater the proportion of income spent on a good the greater the weight. A base year is used. A rise in the index number from 100 to 105 indicates that the average price of clothing and footwear increased by 5% in 2016 Multiply the index price by the weighting. Add these up Divide by the sum of the weightings Divide by the base price level of previous year |
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Explain how CPI is constructed |
The CPI is a weighted price index. Data is collected from 6000 households who keep a record of their expenditure. By looking at their spending habits, a basket of 650 goods and services is constructed. Each has a weight assigned to it which reflects the proportion of income spent on different items. The change in the price of these goods determines the inflation rate in the economy. |
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What is RPI |
Retail price index. This is the measure used for adjusting pensions and other benefits to take account of changes in inflation and is often used in wage negotiations. It has been used for longer than CPI. It is therefore useful to analyze long term changes in inflation. |
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CPI and RPI are both measured using the same price data, but differ in many ways |
CPI is the governments inflation target and excludes all housing costs including mortgage interest payments, rent and council tax. It also excludes the TV license. RPI includes mortgage interest payments. Thus changes in interest rates affect RPI. If interest rates are cut, it will reduce mortgage interest payments. Thus RPI will fall. CPI weights is based on spending by all private households, foreign visitors to the UK and residents of institutional households. The RPI only considers private households and excludes the highest income households and pensioners mainly dependent on state benefits. RPI uses arithmetic mean whereas the CPI measure uses geometric mean. The RPI is therefore almost always higher than CPI. |
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RPIX |
RPI excluding mortgage interest payments. |
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Initially the government's target for inflation was based on RPIX. The target never took into account mortgage interest costs. What are the advantages/disadvantages of excluding mortgage interest payments? |
Advantages It would be difficult to control inflation. If the bank of England were to raise interest rates to control inflation, the increase in mortgage payments contradict the aim and could result in an increase in the inflation measure. Disadvantages Mortgage payments are a major cost of living. |
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RPIY |
RPI excluding mortgage interest payments and indirect taxes |
